The pricing of adjustable rate mortgage contracts

This article analyzes the structure of ARM contracts and the pricing of their component features, based on the view of ARMs as a complex bundle. Unlike previous studies, which have generally relied on option-based simulation techniques, our analysis specifies a microeconomic model of the lender as a profit-maximizer which is then tested using firm-specific data. The empirical results, which are consistent with the microeconomic model, indicate that the lender acts as a profit-maximizing firm in pricing the features of the ARM contract. Furthermore, the results suggest that while the interest-rate cap parameters dominate in the pricing of ARMs, other features are also important. Thus, theoretical and empirical ARM pricing models should embrace other features of the contract besides the cap parameters.     

FINANCING AND HOUSE PRICES

Recent empirical evidence on the effect of below-market financing on house prices has suffered from estimation and interpretation problems. In this paper, a methodology is developed to solve these problems. Using data for mortgage revenue bonds, the methodology is tested with results indicating that all financing subsidy is capitalized into house prices.     

Elderly Female-Headed Households and the Decision to Trade Down

Results from the Panel Survey of Income Dynamics show that elderly women appear to be much more circumspect than men about making housing changes. Some of this apparent difference occurs because elderly women have low levels of financial assets. Elderly women also appear to be much more likely than men, when they do move, to dissave out of home equity. Yet what appears on the surface to be a gender difference in the decision to dissave in later life turns out upon closer examination to occur because of divorce and the event of widowhood.     

Determinants of Real Estate Asset Allocations in Private and Public Pension Plans

Numerous studies have examined the factors associated with allocation of corporate and government pension-plan assets. Yet to date there has been no attempt to identify the sponsor-related conditions that affect the percentage of U.S. private and public pension-fund assets invested in real estate. The purpose of this article is to examine various asset-and liability-matching hypotheses regarding pension-plan asset allocations. Models are specified for both corporate and government defined-benefit plans that relate the characteristics of each plan to the percentage allocated to real estate investments. Our results confirm the existence of a significant size effect for both corporate and government pension plans, although we find mean levels of real estate allocation to be much lower than those suggested in previous real estate allocation studies. The article, however, contains some anomalous findings. In particular, our findings suggest that pension-plan sponsors do not hedge their real estate risk. We also find that pension-plan sponsors do not invest in real estate, as theory might suggest, to minimize the noise level in their pension liabilities.     

Influence of Rent Differentials on the Choice between Office Rent Contracts with and without Relocation Provisions

In this paper we concern ourselves empirically with the influence of rent differentials on the choice between rent contracts with and without relocation provisions investigating the effects of relocation provisions on office rents. The study departs from the extant literature by using a switching simultaneous-equations model to estimate hedonic rent functions for alternative office lease contracts with choices of relocation provisions. The empirical results suggest that price considerations and certain lease terms are important determinants of the choice of office relocation rights. The results also suggest that certain tenant characteristics, like tenant size and creditworthiness, have only a marginal effect on the choice of relocation rights.     

Participation behavior and distributional consequences under a multiple constrained housing program

A distinguishing feature of supply-side housing subsidy programs is that potential participants must jointly accept the multiple constraints imposed by the programs in order to get the subsidy. This paper investigates how information about this feature and the characteristics of the participants can be used to model the conditional probability of participation and to determine the sources of equity/inequity in the distribution of benefit from such programs. The benefit is explicitly estimated in terms of the Hicksian consumer surplus measure using data from the Section 8 New Construction program. Among other findings, it is shown that the probability of participation is a positive function of the perceived benefit but a negative function of the participants' income.     

Another Look at the Economics of Demand-Side Versus Supply-Side Strategies in Low-Income Housing

This paper presents evidence of the relative efficiency of a particular variant of demand-side housing strategy vis-a-vis the supply-side Section 8 New Construction program. The model is cast explicitly in terms of theory of consumer behavior, allowing the estimation of price subsidy rates under the demand-side strategy, that would yield the same welfare improvement as the Section 8 program. The results indicate that neither the latter strategy nor the former clearly dominates in terms of traditional goals of low-income housing policy. The increases in housing consumption induced by the demand-side strategy, while less than those from the supply-side strategy, are significant, and are accompanied by substantial reductions in housing affordability problems (rent burdens). It is shown that anywhere from .63 to 2.16 additional households could have been served for each household served under the Section 8 program, with the demand-side strategy, at no additional cost to the taxpayer.     

Consumer Welfare Under the Adjustable-Rate Mortgage: Some Empirical Evidence

The theoretical literature on the economics of mortgage choice holds that consumer-borrower preference for the ARM depends largely on the FRM-ARM rate differential. However, there is no empirical evidence as to whether consumers are better off, worse off, or left indifferent with the choice of the ARM relative to the alternative FRM. This paper estimates the windfall gain or loss induced by the FRM-ARM rate differential in a multiperiod setting. The major results are as follows: (1) on the average consumer-borrowers reap windfall gain from the use of ARM, (2) but some individual consumers had windfall loss, (3) consumers with ARMs that have periodic interest-rate caps have significantly higher windfall gain than consumers whose ARMs have no periodic rate caps, and (4) the level of the windfall gain (loss) appears to be correlated with the slope of the yield curve and the level of interest rate.     

Teaser rates in conventional adjustable-rate mortgage (ARM) markets

This article examines the pricing of teaser rates on adjustable-rate mortgages (ARMs). The theory indicates that lenders may offset teaser rates on ARMs through an increase in upfront fees or points, through looser life of loan rate caps, or through higher contract rates after the teaser has expired. Cross-sectional regression results fail to reject the null hypothesis that teaser ARMs are correctly priced.     

A Test of Integration and Cointegration of Commercial Mortgage Rates

Little empirical work examines the extent to which commercial mortgage markets are integrated into broader capital markets. We use time series data on commercial mortgage yields and yields on comparable-maturity Treasury securities to identify a long-run cointegrating relationship between the two yield series. Our empirical evidence suggest that, while the yield on commercial mortgage is cointegrated with that on comparable-maturity Treasury securities, the cointegrating relationship is far less than that found between the yield on residential mortgage rates and that on comparable-maturity Treasury securities during 1980–1990 time period. However, our results also show that the spate of commercial mortgage securitization that began in early 1991 may have been a market-integrating force and caused the commercial mortgage market to become more integrated into broader capital markets. Indeed, our results suggest that changes in capital market rates are now much more rapidly reflected in commercial mortgage rates than in the 1980–1990 time period, although there is a lag.